'The government's utopian DC market still seems some way off'

Fast forward a year and Mercer’s recent announcement that it will be acquiring Cardano, and with it NOW Pensions, appears to play strongly into this pension consolidation agenda.

For starters, Mercer is a part of the Mansion House Compact, whose signatories promised to achieve a 5 per cent allocation of their default funds to unlisted equities by 2030.

This deal brings NOW, which did not sign the original compact, into the fold.

More generally, the deal fuses together a master trust aimed at the very largest employers (according to data published by Go Pensions, Mercer’s average membership per employer was 3,200 as at the end of 2023) with one aimed at the small and medium-sized employers that make up the vast majority of the auto-enrolment market (NOW’s average membership per employer was just 73). 

The result suggests the silos in the market, where the investment consultants focused on the very largest clients and the AE master trusts focused on the very smallest, may be starting to break down.

Mercer can now position itself as an end-to-end UK DC provider, able to service all needs, from the most sophisticated and complex corporate clients to the most straightforward default-focused AE employers. 

In this way, the combined Mercer/NOW offering looks like the poster child for what the government is trying to achieve.

Mercer will be the third largest provider by members, with 2.4mn members largely supplied by NOW, and will become the fifth provider to have more than £10bn in UK DC master trust assets (joining the ranks of Nest, L&G, The People’s Pension and LifeSight).

The result could also have a positive outcome for clients when it comes to investment returns, especially in light of another key government policy objective: the introduction of value-for-money benchmarking. 

NOW’s struggles with performance over the past couple of years have been well documented, especially in the period of market turmoil at the end of 2022.

This deal gives it access to Mercer’s longstanding AE investment capabilities, which could enhance the member outcomes when it comes to investment returns.

Replacing Cardano’s investment management of NOW with their own in-house solution could also enhance the returns available for Mercer from the overarching deal. 

Slow progress

Despite these positives, the utopian uplands the government envisages of a DC pensions market dominated by a few mega end-to-end DC master trust providers with sufficient assets to be able to invest £50bn in “high growth companies” with just a 5 per cent allocation still seems some way off.

Although there has been much talk of consolidation, the number of authorised master trusts has only fallen from 38 in 2019 to 36 in 2023.

Even focusing on just the commercial master trusts, the numbers have fallen from 25 in 2019 to 19 in 2023, with most of the activity being focused on consolidation at the smaller end of the market.

The Mercer-Cardano deal will bring these numbers down again, but so far the move to consolidate the master trust market can hardly be described as a rush.

In addition, it is difficult to see where the attraction lies for Mercer in combining its existing master trust offering with that of NOW’s.

The first decade of auto-enrolment has been dominated by the struggle for most master trust providers to reach profitability.

The consultant-led master trusts have shown the way in this regard by focusing on the higher-value end of the market.

Meanwhile, those focused more purely on the SME employers and employees that AE bought into the market, like Nest, Now and Peoples Pension, have struggled much harder. 

While the deal creates the illusion of an end-to-end provider, therefore, it is notable that Mercer has been clear that there are currently no plans to merge NOW with their own in-house master trust offering.

This suggests they too are cautious about intermingling their more profitable core client base with Now’s more challenging AE book of business.

The future too looks challenging. With significant amounts of proposed regulatory change on the horizon, including pensions dashboard, value for money, collective defined contribution/decumulation journeys and pot-for-life proposals, implementation across two master trusts operating largely independently presents a daunting task.

If Mercer cannot find some way of bringing the two entities together to find efficiencies, they could end up bearing the cost of these regulatory changes twice over. 

Looking over the longer term, AE is rapidly altering the shape of the investment market in the UK, shifting it from a wealth focus to a mass market retail focus.

High volumes and low margins

Meanwhile, despite industry hopes to the contrary, the introduction of value for money seems unlikely to significantly decrease the focus on costs, especially in a mass-market context.

High volumes and low margins combined with an increasing scrutiny on value outliers are therefore likely to persist as operating realities for providers at the heart of the AE system like NOW.

At the same time, as master trusts’ assets and memberships grow, they will increasingly be seen as institutions that are core to the stability of the UK financial system.

Looking at what has happened to other similarly core financial institutions, such as banks and insurers, it suggests they are likely to attract increasingly stringent levels of regulation. 

Taking all these trends together, becoming a heavily regulated, mass-market provider of retail financial services would be a significant strategic shift for an investment consultancy such as Mercer.

The deal has undoubtedly given them strategic options, but for it to be seen as a transformative moment in the DC consolidation journey depends strongly on Mercer’s ability and willingness to successfully navigate the technological, regulatory, efficiency and ultimately profitability challenges that lie ahead.

Robert Holford is head of research and regulation at Altus Consulting